The End of LIBOR: SOFR Updates

Previous Repos

In the last Client Alert, it was reported that the New York Fed recently infused approximately $220 billion into the banking system – $70 billion of overnight repos and $150 billion in term repos.[1]

Proposed Overnight Repos

Subsequently, the New York Fed increased its offerings of overnight repos as follows: (i) to at least $120 billion through December 30, (ii) on December 31 through January 2 to at least $150 billion, with a 1-day forward settlement overnight repo on December 30 of at least $75 billion (aggregating to $225 billion on December 31) and (iii) January 3 through January 14 to at least $120 billion.[2]

Proposed Term Repos

In addition, the New York Fed subsequently: (i) extended its offerings of term repos of at least $35 billion in bi-weekly operations through January 14[3] and (ii) proposed offering a 32‑day repo on December 16 of at least $50 billion to mature on January 17.[4]

Rationale

The foregoing potential infusion of an aggregate of up to $590 billion in December is being done in accordance with the most recent Federal Open Market Committee (FOMC) directive to ensure that the supply of reserves remain ample even during periods of sharp increases in non-reserve liabilities, and to mitigate the risk of money market pressures that could adversely affect policy implementation.[5]

It is expected that reserve management purchases will replace, over time, the reserves that are currently being supplied from repo operations.[6]

Historical Fed/Bank Liquidity Infusions

The following is based upon reviewing repo and reverse repo transactions as reported by the New York Fed on December 1 through January 10 to illustrate year-end liquidity needs:

Great Recession – New York Fed Infusions

In the 2007-08 period, overnight repos purchased by the New York Fed increased to a maximum amount of $14 billion and term repos aggregated to $125 billion. During this period, primary dealers (i.e., banks) provided no short-term liquidity through reverse repos.

In the 2008-09 period, term repos purchased by the New York Fed aggregated to $100 billion. During this period, banks (and not the New York Fed) provided $25 billion of short-term liquidity through reverse repo operations.

Initial Recovery Period – Minimal Repo Activity

In the 2009-13 period, there was minimal repo or reverse repo activity by either the New York Fed or the banks.

Later Recovery Period – Bank Infusions

In the 2013-15 period, there was a significant amount of short-term liquidity provided by banks through reverse repos, with a maximum of $198 billion in the 2013-14 period and $171 billion in the 2014-15 period. In addition, in the 2014-15 period, banks provided $226 billion of liquidity through term reverse repos.

In the 2015-19 period, there was a substantial amount of overnight reverse repos purchased by banks with a maximum amount of overnight reverse repos (i) in the 2015-16 period of $475 billion, (ii) in the 2016-17 period of $468 billion, (iii) in the 2017-18 period of $320 billion and (iv) in the 2018-19 period of $42 billion, a slowdown from the prior three periods.

During this entire period, there were limited repo purchases by the New York Fed.

Infusion Analysis

The foregoing reverse repo purchases from the 2013-19 period meant that the banks, and not the New York Fed, provided liquidity into the market as is supposed to occur when the liquidity markets are functioning optimally.

This is in contrast to the current additional New York Fed liquidity infusions, which are substantially higher than even during the Great Recession. However, during the Great Recession, the Fed utilized many other stabilization tools, including, but not limited to, significantly increasing its balance sheet, which it has only recently reinstituted.

Recent Related Events

New York Fed Appointments

The following three (3) critical positions at the New York Fed were announced to be filled in early 2020 after being vacant for several months: (i) the Markets Group Head, (ii) the Manager of the System Open Market Account (SOMA) and (iii) the Financial Services Group Head.[7] The new SOMA Manager served as interim SOMA Manager during the recent period of volatility in the repo market in September.[8]

CFTC

Civil Enforcement Action

On December 20, the Commodity Futures Trading Commission (CFTC) filed a complaint against the Head of North American Rates by the US affiliate of a global investment bank, alleging the engagement in a deceptive scheme to manipulate the prices of US dollar interest rate basis swaps published on screens displaying prices from an interdealer broker firm.[9] The alleged manipulations began in June 2012 in connection with a swap and a related forward and continued through the pricing call for these instruments held on July 11, 2012.[10]

This scheme was alleged to benefit said bank in a separate interest rate swap transaction with a bond issuer.[11] The complaint referenced his June 27 explanation to the bank’s Co-Head of Rates, Asia-Pacific that traders could “push the [US Treasury] market, I mean obviously, a tick or whatever” by buying five-year US Treasuries related to the bond issuance, allowing the bank to generate additional revenues on the transaction to the detriment of the bond issuer.[12]

Meeting

On December 11, the Market Risk Advisory Committee of CFTC met where it was mentioned that approximately $36 trillion of LIBOR swaps are expected to expire after the announced December 2021 LIBOR termination date. All of these swaps will need to be reworked in the next couple of years.

 

[1] See The End of LIBOR: SOFR Volatility and LIBOR Transition Update, dated November 7, 2019.

[2] See New York Fed Repurchase Agreement Operational Details, as of December 26, 2019 (the “Most Recent Fed Repo Schedule”).

[3] See New York Fed Statement Regarding Repurchase Operations, dated November 14, 2019.

[4] See the Most Recent Fed Repo Schedule.

[5] Id.

[6] See Remarks of Lorie K. Logan, Senior Vice President of the New York Fed at the Annual Primary Dealer Meeting of the New York Fed, as prepared for delivery on November 4, 2019.

[7] See New York Fed Press Release entitled ‘New York Fed Names New Senior Leaders for Markets and Financial Services Groups,’ dated December 12, 2019.

[8] Id.

[9] See Commodity Futures Trading Commission v. Christophe Rivoire, Case No. 19-cv-11701 (US District Court Southern District of New York) (the “CFTC Enforcement Action”). The CFTC acknowledged the assistance of the U.K. Financial Conduct Authority (FCA) and the Ontario Securities Commission in filing its action (see Release Number 8099-19 in connection with the CFTC Enforcement Action).

[10] To put this in context, it should be noted that the LIBOR scandal broke in 2012 during the time of this alleged manipulation as follows:

	Instant Case	LIBOR Scandal
June 27	Push US Treasuries Discussion	CFTC and the UK Financial Services Authority (FSA) separately find that Barclays Bank attempted to manipulate interest rates
June 28	—	Barclays' stock price drops by 15%
July 2/3	—	Barclays' Chairman and Chief Executive resign
July 11	Pricing Call	—

In response to the LIBOR scandal, legislation was enacted in December 2012 to dissolve the FSA and create in its place (i) the U.K. Prudential Regulation Authority (PRA) to supervise banks and promulgate bank regulations, and (ii) FCA to enforce such regulations.

[11] See CFTC Enforcement Action.

[12] Id.